Equities rebounded over the past month, approaching 2015 highs, as Internet companies led the Nasdaq 100 to a new record. Strong jobs data from October and Federal Reserve assertions reversed interest rate expectations ahead of the December hike now predicted by many market analysts. In turn, the bounce pushed the U.S. dollar even higher. Contrary to gains in the dollar, commodity prices fell. Oil, copper, gold and iron ore all suffered declines, coinciding with weak Chinese economic data and its slowing economy.
The U.S. labor market saw 276,000 new jobs added in October, exceeding expectations and lowering the unemployment rate to 5 percent. The Federal Reserve considers this full employment, lending strength to the data supporting a rate hike. This puts even more pressure on the Fed to raise interest rates.
In addition to jobs data, incoming economic data has been quite positive. Wholesale inventory data for September was stronger than expected, and is one of the most significant data points affecting GDP revisions. Third-quarter GDP was 1.5 percent as of the first estimate, but the second estimate at the end of November should be higher due to larger inventories. As for the current quarter, the Atlanta Federal Reserve’s GDP Now model currently forecasts 2.3 percent growth in response to a projected increase in consumer spending and fixed asset investment.
Earnings season has been mixed for stocks. Of the approximately 90 percent of companies that have reported thus far, 74 percent have exceeded earnings estimates, although only 46 percent have beaten their revenue estimates.
With economic data supporting rate hikes and investors adjusting their expectations accordingly, the financial sector started leading the market in November, while rate-sensitive sectors, such utilities and real estate, have lost ground. The S&P 500 Index was originally forecast to see earnings fall 5.2 percent, but the decline has shrunk to only 2.2 percent thus far. Pulling earnings higher was healthcare, which gained 14.5 percent, more than double the estimates. Consumer discretionary stocks grew 13.2 percent, 30 percent above what was estimated. Financials have reported growth of 5 percent, shy of the 5.8 percent estimates. Energy fell 56.6 percent and was largely responsible for the drop in S&P 500 earnings. Although the decline in energy was steep, it was still 8 percent better than forecast.
Estimates for the current quarter are declining, as they commonly do. Analysts tend to start optimistically, only to become overly cautious before the onset of reporting season. The financial sector is currently expected to grow earnings 12 percent in the fourth quarter, while consumer discretionary and healthcare should improve by 7.5 percent and 6.0 percent, respectively. Energy is still predicted to pull earnings lower with a 65 percent drop, followed by a 19.9 percent decline in materials and a 7 percent drop in technology. The S&P 500 Index is forecast to see earnings slide 3.7 percent.
While the U.S. remains sound, China’s slowdown continues to weigh heavily overseas. The outlook is worsening for materials, which are expected to see a double-digit drop in earnings in the fourth quarter. Copper is a key industrial commodity. Dubbed “Dr. Copper” for its ability to predict economic growth better than PhD economists, copper is trading at a new 5-year low. Other industrial commodities such as iron ore and steel are in even poorer shape. China accounts for at least a plurality of demand for all of these metals and, in some cases, the majority. Due to slowing growth in China as well as a rebalancing away from infrastructure development, demand for natural resources is falling. To make it even more challenging, the government has refused to close steel mills over the past several years. The result is an incredible supply glut, with Chinese exports surging onto the world market as the massive overproduction is no longer being used domestically.
Improving economic growth, a stronger currency and cheaper imports have historically been positive for investors in the United States. Global investors, including those in China, are looking to escape domestic currency risks by owning U.S. dollar assets. Solid, dividend-paying companies will remain attractive to foreign investors, while domestic sectors that benefit from trends in interest rates, such as financials, will begin to outperform.